How Could a Trade War Affect Your Investments?

The economic news has been dominated in recent weeks by the tariffs the Trump administration has imposed on imports into the U.S. from China and other nations. These include steel (25%), aluminum (10%), washing machines (20%) and solar panels (30%).

In early July, an additional $34 billion in tariffs was assessed on more than 800 different goods imported from China. Many economists have voiced concerns about how these tariffs could launch a trade war that could damage the U.S. economy.

Tariffs and Trade Wars Explained

As an investor, you might be wondering how these tariffs and all this talk of a trade war could affect your investment portfolio. Or, you might even be wondering what exactly is a “tariff” and a “trade war”?

A tariff is a fancy word for a tax on goods that are exchanged between sovereign nations. Countries impose tariffs in order to limit economic interaction with other countries and keep spending confined domestically. The idea is to boost domestic industries (like steel and aluminum) by making the products of their foreign competitors more expensive.

The flip side, however, is that businesses that use steel and aluminum to manufacture products will face higher raw material prices. These businesses, in turn, may have to raise their prices in order to guard their profit margins. The cumulative effect of this can send ripples that reverberate throughout the economy.

Meanwhile, a trade war is what happens when nations start imposing tariffs on other nations’ good in retaliation against each other. For example, China has announced its own tariffs on $50 billion worth of U.S. goods in response to the U.S. tariffs on Chinese goods. Mexico and Canada have also announced that they will impose tariffs on a number of U.S. goods including steel, aluminum, pork, potatoes and apples.

Not So Fast…

The first thing to point out when talking about the potential impact of a trade war on investments is that despite all the rhetoric and headlines, we have not entered a trade war yet. And many economists are skeptical that we ever will.

If a trade war does eventually materialize, the danger is that worldwide economic growth could suffer as countries are discouraged from trading with each other. It’s this fear that has led to much of the stock market volatility we’ve seen over the summer. U.S. businesses that rely on low- or no-tariff trade with other countries, as well as those that have foreign production operations, stand to be hurt the most by a trade war.

What To Do Now

Given all of this, what should you do as an investor right now? This depends mainly on what you think might happen with regard to tariffs and a possible trade war. If you think all the talk of a trade war is just that — a lot of talk — then your best course of action is probably to sit tight and not do anything.

However, if you believe that we are headed for a trade war, here are a few strategies to consider:

Rebalance your portfolio. The idea here is to shed companies that could be hurt the most by a trade war while acquiring companies that would be hurt the least. For example, you might sell the stock of businesses that rely heavily on low- or no-tariff trade with other countries and buy the stock of businesses that operate domestically and aren’t affected by higher steel and aluminum costs.

Diversify your holdings. This will help spread your risk out among many different kinds of businesses. One of the best ways to diversify is to buy shares of mutual funds and exchange traded funds (EFTs). This could give you a more broad-based exposure to the stock market, which can reduce volatility in your portfolio.

Keep some liquid cash. It’s often a good idea to hold a percentage of your assets in cash-equivalent investments in order to provide a cushion against market volatility. These include bank savings accounts and money market accounts. This strategy also helps ensure that you have cash available to buy stocks in the future if stock prices fall due to a trade war.

Please contact us if you have more questions about investing strategies in light of tariffs and a possible trade war.

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